Two-time finalist for Gerald Loeb Award - this year for Forbes magazine work and in 2010 for online commentary and blogging. I am a C.P.A. and freelance journalist with credits in the Financial Times, Boston Review, American Banker, Columbia Journalism Review, Accountancy Age, Accountancy Magazine, Forbes, and others. I also blog at my own site, re: The Auditors, a specialized news site about the business of the Big 4 audit firms. I have been quoted in the New York Times, Wall Street Journal, Chicago Tribune, Crain's Chicago Business, Chicago Magazine, Chicago Sun-Times, Financial Times, Reuters, Forbes, Harvard Business Review, BusinessWeek, American Lawyer, California Lawyer, American Banker, Columbia Journalism Review, The Times of London, The Guardian, the Financial Chronicle (India) and others. To reach me email fmckenna2010@gmail.com.

1/09/2012 @ 2:04PM18,718 views

The Neverending MF Global Story: Regulators Block The Truth

Instead of looking out for MF Global investors – and customers who are still waiting for their money – it looks like regulators and the bankruptcy trustees are busy suppressing information. Instead of full transparency, regulators and the trustees are holding onto crucial details that might tell us all who was asleep at the wheel when the broker/dealer and futures commission merchant (FCM) headed over the cliff.

Bob English, an independent trader and contributing editor to the blog, Economic Policy Journal, published a post this morning that raises serious questions about the Securities and Exchange Commission’s program of regulation for broker/dealers and, in particular, the agency’s role in keeping the truth from the public about what went wrong at MF Global. We’re also being kept from the truth about other broker/dealers who may be putting risky trades on their books or whose controls over segregation of customer assets may be weak or non-existent.

It seems that sloppy scanning and filing standards combined with preferential treatment for certain large brokers has substantially reduced the value of this part of the SEC’s public filing system. Since this is often the sole repository for disclosures about private companies, including broker dealers that do not have public holding companies, investors are being deprived of timely and critical information.

Even for those broker dealers that do have public holding companies, such as MF Global Inc., the financial notes of the broker audits disclose different, and oftentimes, more substantial information. Since it is now apparent that Louis Freeh, the former FBI Director cum MF Global Holdings trustee, is running cover for MF’s largest creditors, not the least of which is JP Morgan Chase, it is all the more critical that the integrity of the SEC’s public filing system be scrutinized.

On November 4, 2011, days after the bankruptcy filing, I described in an American Banker column the information the regulators and investigators should be looking for:

Since MF Global is a broker-dealer and a Futures Commission Merchant, PwC’s job went well beyond a standard audit. The auditor for a firm like this must annually review the procedures for safeguarding customer and firm assets in accordance with the Commodity Exchange Act. The annual audit must include a review of a firm’s practices and procedures for computing the amounts that, by law, have to be set aside in clients’ accounts each day. MF Global also had to send regulators an annual supplemental report from PwC. This report would describe any material inadequacies existing since the date of the previous audit and any corrective action taken or proposed.

I’m sure the CFTC wants to know if PwC ever documented any material inadequacies in MF Global’s controls over safeguarding customer assets. But wouldn’t they already know that? Regulators like the CME Group, the CFTC, the SEC, and FINRA received audited financial information annually, unaudited information semiannually and monthly reports that provided a capsule view of MF Global’s financial position. MF Global is required to perform calculations daily (by the CFTC) and weekly (by the SEC) to ensure that the proper amount of customer funds is set aside in the separate accounts.

PwC’s report to the SEC of internal control discrepancies for 2010 – and there is one according to the filing index – is private. None of the auditor’s reports specific to the broker/dealer and FCM are available to the public on Edgar for 2011.

Is this just sloppy scanning? It’s no coincidence to me that auditor PricewaterhouseCoopers may also be playing a role in keeping uncomfortable or incriminating information from the public about its audit clients. PwC audits MF Global as well as Bank of America, Goldman Sachs, JP Morgan, and Barclays. (See latest record fine against PwC for looking the other way at customer funds commingling at JP Morgan. PwC is also under investigation for similar sins at Barclays.) The largest audit firms routinely request confidential treatment of their reports and contract details such as engagement partners, whether as a vendor to the government or as a defendant in a contentious lawsuit.

There’s also a very strong interest on all sides of the MF Global mess in not leading anyone to third-parties such as bankers like JP Morgan, lawyers, and PwC, the auditors, too soon. Is there something in PwC’s secret audit reports and internal controls discrepancy reports for the broker/dealer for 2010 and perhaps 2011, that someone, anyone should have paid attention to earlier?

Here we are, more than two months after the forced liquidation of the MF Global broker dealer - it’s important to note this was no voluntary bankruptcy filing but a liquidation forced on MF Global by the Securities Investor Protection Corp – and the missing $1.2 billion of customer funds has not yet shown up.

The customer assets are gone, but no one in the officialdom - the two bankruptcy trustees, the CFTC, the SEC, or the Department of Justice – wants to admit just yet that the bankruptcy estate and, therefore, the customers will come up short.

Shortly after the filing on October 31st, all parties, including MF Global’s General Counsel Laurie Ferber, admitted that customer funds were short, not just misplaced. We’ve seen no new “on the record” facts from investigators, trustees, or regulators to refute these dramatic admissions.

CFTC in bankruptcy filing October 31 according to The Financial Times: The CFTC, in a court filing, revealed MF Global’s general counsel Laurie Ferber emailed the regulator at 7.18pm Monday – hours after the bankruptcy filing – to say that it had “discovered a significant shortfall in its segregated funds account”.

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As a fellow Chicagoan (I am assuming from your pseudonym) you know we are the city of big shoulders, big mouths, and big ideas. I can shoulder any criticism, always speak my mind, and have a particular theory about what happened. I’ll be collecting plenty of wickedly strong drinks at Ceres if I’m right. :)

I assume that MF Global “legally” used their customer funds and that part of these funds were legally lost thru some form of pledging and re-pledging collateral. If so, then the gov agencies would want to delay and release this news slowly over several months to avoid criticism and investor unrest.

proposes that the customer assets were lost by pledging them as collateral for a short term loan – without any transfer of other assets to customer accounts – to make it through the weekend until a sale. When the sale did not occur because CME auditors could not be schmoozed any longer and missing assets were noticed, the bankruptcy occurred on Monday, the assets were liquidated by the lender, and they are thus totally gone.

If that was done, it would be an illegal, as in criminal, use of the assets.

Look at the July 31 statement on the CFTC. MF is the only FCM with negative net capital. Questioning of the CFTC should have been around the facts over that incident. How long did it take for MF to come back into compliance? Was that the only time they were non-compliant? etc…